What are market makers current responsibilities and benefits?
Market makers play a crucial role in ensuring market liquidity by acting as both the buyer and the seller. Their role allows participants to trade markets more easily due to a larger pool of liquidity and with less of a transactional cost. Without market makers in place, the markets would be highly volatile while the cost of trading would also increase significantly. In recent years, with the rise of automated trading and effective risk management systems, market makers have had to invest in order to reduce their risk.
How has increased competition in the market changed their position?
Market makers have begun to receive incentives for operating at different exchanges, injecting a boost of liquidity into those markets. These schemes have been highly controversial in the markets, especially the maker-taker model, which gives a transaction rebate to market makers and charges participants who take that liquidity out the market. One of the biggest critics of this model has been Intercontinental Exchange’s CEO Jeffrey Sprecher, who believes the system distorts pricing.
For new exchanges and products though, liquidity is the key to their success. Therefore with more competition and the need to build liquidity to survive, the role of the market maker is as important as ever.
How will their role change under new regulations?
Under the new MiFID II directive, regulators are ensuring market makers stay in the market at all times. This decision highlights their importance in maintaining a stable market. Their presence will reduce the volatility of prices and ensure liquidity in the capital markets.
However, proposals also place restrictions on market makers and could force participants out of the role, and therefore have the opposite effect to that which regulators were hoping for. Staying in the market at all times will heighten risk for many market makers under the new MiFID requirements. This will not even be offset by the attractive incentives, which could also be clamped down on by regulators. The lure of market making has also become less attractive for major banks in some ways though as they are cutting back and reducing their overheads in light of regulatory changes.
If market makers were to pull out of their current operations, this could have a serious effect on the liquidity of European markets in the future.
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